Several NBFC stocks were also affected, especially after the RBI issued warnings about their sources of funding and asset-liability mismatches. IndiaBulls Housing Finance fell by 6.33 per cent, DHFL fell by 9.77 per cent, Bajaj Finserv by 9.83 per cent, Capital First by 4.76 per cent, CanFin Homes by 5.7 per cent, and Mahindra Finance by 3.61 per cent.
“Chasing lower marginal costs of funding in order to acquire or retain market share in lending is a myopic strategy. It is associated with significant roll-over risks in the medium term. This practice appears to have led to a maturity rat race in the financing of the financial sector,” said Deputy Governor Viral Acharya.
According to a report by Nomura India, NBFCs garnered around 25 to 30 per cent of their incremental funding from commercial papers (CPs).
With NBFCs relying “excessively” on borrowing through short-term debt instruments such as CPs, there is a mismatch between their outflows in terms of repaying these instrument holders and the inflows they receive from borrowers.
That is, they borrow funds through instruments that have a maturity of less than one year while funding infrastructure or capital-expenditure projects that take years to set up and even longer to generate profits and revenues for the borrowers.
This creates an asset-liability mismatch and a liquidity problem at the NBFCs.
“As these institutions refinance at a higher price without assets being re-priced, it directly puts pressure on their net interest margins, consequently squeezing profitability. This could manifest in the form of refinancing challenges in case the liquidity situation aggravates for NBFCs, which carry sizeable tenor mismatches,” said Pankaj Naik, associate director, and Jinay Gala, senior analyst, India Ratings, in a report.
RBI Deputy Governor N Vishwanathan said, “In the past couple of years of rapid growth of the NBFC sector, the companies used diverse sources of funds for this expansion… to keep the marginal cost [down] some of them have resorted to increased market borrowings in the form of CPs. That could result in asset-liability mismatch, more so for those who are financing long-term like infrastructure.”
Vishwanathan said the RBI will be looking at strengthening the asset-liability guidelines so that the risk of constant roll-overs of loans and debt instruments is reduced.
The average CP issuance in the first eight months of this calendar year stood at 630, worth about Rs 875.4 billion. In September, it came down to 141 CP issuances, worth Rs 284.7 billion, the lowest since 2013.
With the equity and debt markets facing uncertainty and volatility, stemming from the recent loan and bond repayment defaults by Infrastructure Leasing & Financial Services (IL&FS), a systemically important NBFC, CP yields have shot up.
The majority of CPs is held by mutual funds (MFs) and other investment companies. Estimates say that MFs have invested a total of Rs 18 trillion in debt instruments.
As of March 2018, MFs held an estimated 60 per cent of the total outstanding NBFC CPs as compared to 41 per cent as of March 2016, according to a report by Credit Suisse.
The share of corporate bonds and CPs as a percentage of total debt investments made by MFs have increased over the past 5 years from around 25 per cent in March 2012 to over 65 per cent as of March 2018, the report noted.
In a situation when the debt markets are facing liquidity concerns, and the number of CP issurance has fallen substantially, the MF industry is extremely vulnerable to the prevailing volatility in the equity and debt markets, especially when around 41 per cent of the total funding to the NBFC industry is due for refinancing in FY2019, says Credit Suisse.
India Ratings says that the top 12 NBFCs have about Rs 300 billion worth of CPs due for repayments in the three months ending December 2018. “Out of these, the issuers accounting for Rs 180 billion have adequate liquid investments and unutilised bank lines to cover the CPs maturing. For the balance, in addition to liquid investments and bank lines, they can access large treasury corpus of the sponsors.”
Acharya cautioned NBFCs and other financial firms to “place greater reliance on equity and other modes of long-term finance for funding for long-term assets, rather than relying excessively on short-term wholesale paper.”
“It is best to avoid this in order to safeguard financial firms’ own balance sheets as well as for overall financial stability,” he said.